Capital Liquidity, Productivity Dispersion and Market Structure

Abstract

We propose an industry-level index of capital liquidity -- defined as the share of used capital in aggregate industry capital expenditure -- that relates (inversely) to sunkenness of capital investment. We then test the effect of capital liquidity on the dispersion and mean of industry productivity distributions, as well as on industry concentration measures using data on US manufacturing industries. As predicted by a standard model of industry equilibrium with heterogeneous firms, we find that an increase in the capital liquidity index is associated with a reduction in the productivity dispersion and an increase in the mean and median of the productivity distribution. In addition, we find that increase in capital liquidity is associated with a decline in industry concentration measures. This is consistent with predictions from the standard industry equilibrium model under certain empirically plausible assumptions about the distribution of firm productivity parameters. Our results are robust to the inclusion of a number of control variables proxying for sunk costs, fixed costs, trade competition, product substitutability, advertising and R\&D intensity and productivity persistence. Our results are also robust to using alternative measures of dispersion and concentration, and alternative methods of estimating total factor productivity.